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Japanese Bond ETF Investing 101

The European crisis is raising concerns and the threats of yet another recession is looming large in the U.S. even with better-than-expected job growth levels as of late. Naturally, investors are putting their money in assets perceived as “safe haven”, and these include the Japanese bonds (Read: Forget European Woes with These Three Country ETFs).

Though the yields are at a nine-year low, Japanese Government Bonds (JGBs) are gaining immense popularity due to large inflows from the household and corporate sectors (Read: Forget About Low Rates With These Three Bond ETFs). With a large pool of domestic savings –– nearly $15 trillion –– and the majority of JGB having domestic ownership, the stability of the securities is unmatched in the developed world.

However, while Japan funds much of its government from internal sources, investors should note that the country has by far the highest debt-to-GDP ratio (nearly 230%) in the world. While this is the major concern, gold and foreign exchange reserves of over $1 trillion as well as surplus bank deposits will certainly improve the country's debt profile.

Further, a strong yen is motivating Japanese investors to keep their funds in bonds, especially given the shakiness in the equity markets as of late (read: Dollar and Yen ETFs to Benefit from the Greek Drama). However, the currency rise is likely to be somewhat capped by the recent downgrade of the country’s sovereign debt by Fitch and the Bank of Japan’s interventions in the currency market.

Japan Outlook

Japan, the world’s third-largest economy, is experiencing slower economic growth, aging population, budget deficits and (relatively) unstable political conditions (Read: Japan ETFs: One Year after the Fukushima Disaster). Nevertheless, several government monetary easing tools are trying to win back investor confidence in the Japanese bond market. These factors could make JGBs worth considering, especially for those looking to diversify their bond holdings into other developed economies.

While the space may be somewhat difficult to invest in on its own, investors do have a number of exchange-traded products at their disposal. Currently, there are a handful of ETNs in the segment which offer exposure to Japanese bonds in various maturities and leverage levels.

Below, we highlight some of these products targeting this corner of the market for investors thinking about making a play on this often overlooked corner of the bond market:

Investors seeking a long position in 10-year JGB futures might try JGBL. The note seeks to match the performance of the DB USD JGB Futures Index, net of fees and expenses. Launched in March 2011, it is an unleveraged product and provides returns on a long position in 10-year JGB futures plus the monthly T-bill index returns.

With AUM of $5.2 million, the fund returned about 1.3% year-to-date and charges 50 bps in fees from investors. The ETN is less liquid as it exchanges nearly 2,000 shares on a daily basis, suggesting that the total cost could be higher thanks to a relatively wide bid ask spread (Read: Guide to the 25 Most Liquid ETFs).

JGBT is a leveraged ETN that provides exposure to three times the monthly returns on a long position in 10-year JGB futures, plus the monthly T-Bill index returns. Similar to JGBL, this fund tracks the DB USD JGB Futures Index.

The ETN has returned about 4% year-to-date and charges 95 bps to the investors per year for operating expenses (See more ETFs in the Zacks ETF Center). It has attracted about $4.5 million in assets and trades in a paltry volume of 1,500 shares on average daily basis.

Investors seeking exposure to a short position in 10-year JGB futures might target JGBS which looks to track the DB USD Inverse JGB Futures index (Read: Is The Bear Market For Bond ETFs Finally Here?). Launched in November 2011, the note provides unleveraged exposure to the U.S. dollar value of the monthly returns on a short position in 10-year JGB futures plus the monthly T-Bill index returns.

So far, the product has attracted assets of $23 million and charges only 50 bps in fees. The ETN has generated negative returns of about 2% since inception while daily volume currently comes in around 30,000 shares a day.

This ETN offers investors three times inverse exposure to the monthly returns on a short position in 10-year JGB futures plus the monthly T-bill index returns in U.S. dollar terms. Similar to JGBS, the product tracks the DB USD Inverse JGB Futures Index, net of fees and expenses.

With assets of $20.7 million, the note delivers three times negative return of JGBS, which comes to 6% since inception. This product doesn’t really have high volume either, and fees could be somewhat expensive for some low-cost investors, as they come in at 95 basis points a year (Read: Guide to the 25 Cheapest ETFs).

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